Skewed Libor Market Model and Gaussian HJM Explicit Approaches to Rolled Deposit Options
Marc P. A. Henrard
Journal of Risk, Vol. 9, No. 4, 2007
An exotic option (floor on rolled deposit) is studied in the shifted log-normal Libor Market (LMM) and Gaussian HJM models. The shifted log-normal LMM exhibits a controllable volatility skew. An explicit approach is used for both models. Using approximations the price in the LMM is obtained without Monte Carlo simulation. The more precise approximation uses a version of the perdictor-corrector adapted to explicit solutions. The results of the approximation are extremely good.
Keywords: Libor Market Model, Heath-Jarrow-Morton, skew, smile, explicitsolution, approximation, Bond Market Model, option on composition, existence results
JEL Classification: G13, E43, C63Accepted Paper Series
Date posted: July 25, 2007
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